Oil spread widens as Midwest glut far from dissipating

One of the main features in the oil complex this week has been the ongoing widening of the Brent/WTI spread. Ever since the announcement that the flow through the Seaway pipeline would be constrained WTI's discount to Brent has been growing with the rest of the complex once again moving much more in sync with Brent rather than WTI as the surplus of crude oil in the mid-west does not look like it is going to dissipate anytime soon. The March Brent/WTI spread is trading solidly above the last resistance level of $19.50/bbl (now support) and seems clearly headed to test the November high of around $20.90/bbl. Further supporting the bullish side of the spread is the start of the spring refinery maintenance season which will result in a decline in demand for crude oil in the mid-west (and elsewhere in the U.S.) and thus further delay the surplus of crude oil in PADD2 and Cushing, Ok from dissipating. For the moment both the fundamentals and the technicals are bullish for the spread.

As I have been discussing in the newsletter, geopolitics are acting as a price floor for the oil complex even as the West and Iran and are scheduled to meet on Feb. 25 in Kazakhstan. Today the U.S. will tighten sanction on Iran by blocking buyers of Iranian crude oil from paying in U.S. dollars. Under penalty of expulsion from the U.S. banking system buyers of Iranian oil will now be restricted to using their own currencies and keeping their payments in escrow. Iran will thus only be able to use the funds for locally sourced goods and services... sort of a barter transaction.

On the macroeconomic front most of the data from the main regions of the world have been relatively positive coming in better than expected and thus suggesting that the global economic recovery may have turned the corner and may be now growing at a faster pace. There is no question that the U.S. economy (for example) is in a growth pattern. The main problem is the pattern is still much too slow to result in a significant change to areas of the economy like employment and consumer spending (which represents about 70% of the U.S. GDP). Much like in the U.S., many of the developed world countries are flooding their economies with liquidity in the form of very low short term interest rates and large amounts of quantitative easing. Although the global economy is in a growth pattern the very accommodative monetary policies in play around the world are still very much the reason why the economy is growing at all. Another example the Japanese yen hit a three year low in overnight trading in anticipation that the Bank of Japan may ease even further and in larger increments (QE).

As long as many major central banks continue to operate in a very accommodative manner the downside for most risk asset markets like equities, oil and most other traditional commodities will be limited. That does not mean values will only go higher. I still see most risk asset markets as being overbought and very susceptible to further rounds of profit taking selling as we experienced on Monday. What I do not see is a major collapse in values and the start of a sustained downtrend in the short to even medium term. With money continuing to move into the global equity and commodity markets I would expect that most of the future rounds of profit taking selling will likely be met with bottom picking buying thus limiting the downside moves to increments of 1% to 2% at any time (equities).